Rallies in commodity prices and mining-company shares stem from a “bubble of belief” in China’s economy that is likely to burst, according to Albert Edwards, a strategist at Societe Generale.

“I believe we will look back on the Chinese economic miracle as the sickest joke yet played on investors,” Edwards wrote yesterday in a report. To support his argument, he cited falling earnings at the country’s industrial companies.

The CHART OF THE DAY shows year-over-year percentage changes in profits, as compiled by China’s National Bureau of Statistics. The chart combines monthly data from 2005 and 2006 with a quarterly index, started in 2007, that tracks companies in 22 provinces. This quarter’s report is set for June 26.

Commodity prices climbed 21 percent this year through yesterday, according to the UBS Bloomberg Constant Maturity Commodity Index. Mining stocks paced a 23 percent gain in the MSCI World Materials Index, the year’s top performer among 10 industry groups in the MSCI World Index.

While the Chinese economy expanded 6.1 percent in the first quarter from a year earlier, Edwards wrote that he was skeptical about its ability to sustain that level of growth during a global recession.

“The bullish group-think on China is just as vulnerable to massive disappointment as any other extreme example of bubble- nonsense I have seen over the last two decades,” his report said. “The fall to earth will be equally as shocking.”

...“It is all too easy for investors to buy into beguiling ‘growth’ stories that are in fact utter nonsense. If the bubble of belief in China’s medium-term growth prospects finally bursts, it will have huge investment implications. I will be writing far more about this subject over this summer. But one thought, if China is doing so well, how come Chinese company profits in the year to April are down some 30% yoy (see chart)?”

“SG has an excellent Asian economist, Glenn Maguire, who, unlike me, has been totally right about the recovery in the Chinese data this year. But it was notable that when the 6.1% yoy rise in Q1 GDP was published, he said the real outturn was actually more like 3.5% yoy, but that the authorities ’smooth’ the data at turning points. Let me put that into plain English. The Q1 6.1% GDP outturn is simply a lie - and it helps explain why the Chinese data are derided by so many economic commentators. Many have highlighted that the GDP seems inconsistent with other data such as electricity output. This latter series remains weak. In May it declined 3.2% yoy and by 3% on the smoothed basis.”

“Yet few dare to point out that the emperor’s clothes might be absent. When, for example, the International Energy Agency had the temerity, a few weeks back, to suggest that the Chinese authorities were inflating the data (link), they were met with a robust broadside from the Chinese National Bureau of Statistics. The NBS said on its website ‘It is regrettable that the point of view in the original article is groundless … We believe that, for an international organization, this approach lacks seriousness’ - link. I think this is a case of me thinks thou doth protest too much. Nevertheless, an article on Radio Free Asia reported that The National People’s Congress had found “serious fabrication” in official statistics - link and link.”